Chapter 12

Question 1

What does a downward shift in the aggregate demand curve mean?

Answer 1

reduced aggregate output, reduced GDP

Question 2

Two cases when considering AD

Answer 2

1. Prices vary, everything else fixed
2. Prices fixed, other things vary

Question 3

define

Wealth Effect

Answer 3

as prices increase, asset values fall, leading to decreased purchasing power, causing consumption to fall

Question 4

define

Interest Rate Effect

Answer 4

an increase in price index leads to a decrease in money holding, savings fall, causing the interest rate to increase, downward shift of AE planned

Question 5

What is the relationship between price index and GDP?

Answer 5

inverse!

Question 6

list

Causes of AD shift

Answer 6

• changes in expectations
• changes in wealth
• size of existing stock of physical capital
• fiscal policy
• monetary policy

Question 7

discuss

changes in expectations

ad

Answer 7

changes current consumption (inc), AD shifts up or down (pos or neg)

Question 8

discuss

Changes in wealth

ad

Answer 8

all other prices fixed, asset prices increase, purchasing power increase (or can be opposite if wealth falls)

ad up

Question 9

discuss

Size of existing stock blah blah

ad

Answer 9

building up lots of stock leads to a drop in investment

ad will fall (also works the opposite way)

Question 10

discuss

Fiscal Policy

ad

Answer 10

government participation in economy
contractionary: dec AD, shift left
expansionary: inc AD, shift right
(can inc income through more transfers and tax reduction)

Question 11

discuss

Monetary Policy

ad

Answer 11

can either be contractionary or expansionary
- bank can change lvl of interest in the ecnomy
- bank can change money supply in the economy

Question 12

define

Aggregate Supply

Answer 12

relationship between the aggregate price lvl and the quanitiy of aggregate output producers area willing to supply

Question 13

define

SRAS

short sun aggregate supply curve

Answer 13

no changes in tech, input prices don’t change, fixed (sticky) wages

Question 14

define

LRAS

long run AS curve

Answer 14

tech improvement is possible, output and input prices are flexible, input prices can adjust to changes in the price index

Question 15

Profit per unit of output equals..

Answer 15

output price - cost per unit of output
π = P - MC

Question 16

describe

Graph of perfectly competitive firms

Answer 16

price takes
when price decreases, output decreases
U - shaped

Question 17

descripe

graph of imperfectly competitive firms

Answer 17

price makers
if the price is cut, sales can be recovered

Question 18

inc in per unit price lvl

effect on sras

Answer 18

SRAS shifts right

Question 19

dec in per unit price lvl

effect on sras

Answer 19

SRAS shifts left

Question 20

cost of production changes due to…

Answer 20

commodity/input prices
productivity/changes in regulations

Question 21

describe

LRAS

Answer 21

• vertical
• a fall in aggregate price lvl will NOT effect GDP
• where LRAS hits the x-axis is potential output (Yp)

Question 22

a rise in nominal wages…

Answer 22

shifts SRAS left

Question 23

a fall in nominal wages… (SRAS)

Answer 23

shifts SRAS right

Question 24

define

Demand Shock

Answer 24

when an event causes AD to shift

Question 25

define

Positive Demand Shock

Answer 25

an event causing demand to increase, shifting AD to the right

ex. expansionary fiscal policy

Question 26

define

Negative Demand Shock

Answer 26

policies and recession casuing emand to decrease, shifting AD to the left

Question 27

define

Supply Shock

Answer 27

when an event causes SRAS to shift

Question 28

define

Positive Supply Shock

Answer 28

supply increases, shifts right

ex. tech improvements, anything reducing production costs

Question 29

define

Negative Supply Shock

Answer 29

supply decreases, shift left

changes inprices. dec in per unit profits

Question 30

EQM when you put em all together

Answer 30

SRAS = AD = LRAS

Question 31

define

Recessionary Gap

Answer 31

aggregate output < potential output

Question 32

define

Inflationary Gap

Answer 32

aggregate output > potential output

Question 33

define

output gap

Answer 33

(aggregate output - potential output) / potential output x 100

Question 34

describe

What happens when demand shifts righ

Answer 34

Short run: eqm will shift to AD = SRAS
Yp < Y1, which means there’s more employment that usual (inflationary gap)
people will demand higher wages, causing SRAS to shift left as the production costs increase
Long run: output shifts back to the eqm and aggregate price lvl increases

Question 35

describe

What happens when aggregate demand shifts left

Answer 35

short run: eqm will shift to AD = SRAS
Yp > Y1 (potential > output)
unemployment increases, causing production costs to decrease and SRAS to shift left
Long run: output shifts back to eqm, price levels decrease

Question 36

the final shift is always done by….

Answer 36

SRAS!

Question 37

if aggregate price level falls… (AEplanned)

Answer 37

AEplanned shifts up!

Question 38

define

Nominal Wage

Answer 38

dollar amount of any given wage paid

Question 39

define

Sticky Wages

Answer 39

nominal wages that are slow to fall even in the face of high unemployment, and slow to rise even in the face of labor shortages

Question 40

define

Potential Output

Answer 40

the level of real GDP the economy would produce if all prices, including nominal wages, were fully flexible